Live Free Or Move!

"Live Free Or Move" is, of course, a takeoff on the New Hampshire slogan, "Live Free or Die". We want to live free, natch, but wouldn't it be nice to have an alternative to freedom other than death?
So let's live free. Unless we find we can't. In which case, we should move to where we think we can live free.
Meantime, let's discuss freedom. Political and economic (but I repeat myself).

Thursday, February 25, 2010

The Dynamics of Interventionism Strike Again!

Here’s an interesting item from The Wall Street Journal… India produces barely half as much rice per hectare as China…3.4 tons per hectare as compared to 6.5 tons in China. Even dirt poor Bangladesh gets a better yield on its rice land – with 3.9 tons per acre of output.

What’s the matter with India’s farmers?

We return to a Daily Reckoning dictum to explain it. Anyone can make a mess of things, but to really cause a catastrophe you need taxpayer support.

Yes, Dear Reader, India’s agricultural sector gives us yet another example of central planning at work. In the ’70s, when India was even more of a socialist country than it is now, the government decided to boost production by giving farmers subsidized fertilizers. This led, as might have been predicted, to the overuse of fertilizers…one of which – urea – severely damaged the soil. Subsidies, bailouts, quantitative easing, fiscal stimulus – all produce perverse effects. In this case, the effects are so perverse that India can no longer feed itself. It’s forced to import a large part of its food. Naturally, food prices are rising – up 19% last year.

But the cost of food itself is only part of the story. There’s also the cost of the subsidies. In 1976, the fertilizer subsidy program cost $640 million. Now the price tag is up to $20 billion.

Both the soil and the budget are getting worn out. As crop yields decline, desperate farmers put on more and more cheap fertilizer. And then, as the food output goes down, the government thinks it has to ‘do something’ to fix the situation. What can it do? Provide more subsidized fertilizers!

Thursday, January 28, 2010

Howard Zinn on the War in Afghanistan

How can a war be truly just when it involves the daily killing of civilians, when it causes hundreds of thousands of men, women, and children to leave their homes to escape the bombs, when it may not find those who planned the September 11 attacks, and when it will multiply the ranks of people who are angry enough at this country to become terrorists themselves?

This war amounts to a gross violation of human rights, and it will produce the exact opposite of what is wanted: It will not end terrorism; it will proliferate terrorism.

A Just Cause, Not a Just War

Czechoslovakia was handed to the voracious Hitler to "appease" him. Germany was an aggressive nation expanding its power, and to help it in its expansion was not wise. But today we do not face an expansionist power that demands to be appeased. We ourselves are the expansionist power--troops in Saudi Arabia, bombings of Iraq, military bases all over the world, naval vessels on every sea--and that, along with Israel's expansion into the West Bank and Gaza Strip, has aroused anger.

It was wrong to give up Czechoslovakia to appease Hitler. It is not wrong to withdraw our military from the Middle East, or for Israel to withdraw from the occupied territories, because there is no right to be there. That is not appeasement. That is justice.

What do the wars have to do with the SOTU anyway?

[F]or a president who is prosecuting two wars and trying to protect the country against the threat of a terrorist attack, Mr. Obama spent only nine minutes in an address that lasted more than an hour on foreign policy. He renewed one of the most popular promises of his campaign for election, to bring the troops home for Iraq, saying “Make no mistake — this war is ending, and all of our troops are coming home.”

But he devoted only one paragraph to a far less popular decision, escalating the troop levels in Afghanistan. “There will be difficult days ahead,” Mr. Obama said. “But I am confident we will succeed.”

Friday, January 08, 2010

We're the TSA and You Can Count on Us!

Live Free Or Move--to Costa Rica!

Costa Rica is one of the few countries that is seeing migration from the United States: Yankees are moving here to enjoy a low-cost retirement. My hunch is that in 25 years, we’ll see large numbers of English-speaking retirement communities along the Costa Rican coast.

The biggest government failure of all

Hint: it is not the Christmas-Day, underwear-bomber incident.

Not only do we make the threat of terrorism bigger than it really is, but we continue to ignore one of the primary reasons we have a terrorist threat at all: an interventionist U.S. foreign policy practiced by Democrats and Republicans alike (the difference being one of style not substance) that gives Muslims good reasons to hate America. That – not security or intelligence shortcomings – is the biggest failure of our government and those in charge of it.

Thursday, January 07, 2010

Marc Faber: Gold at $1150 today is cheaper than when it was $300

”Gold remains the best bet as a currency these days because of the fact that the yellow metal supply is extremely limited. Gold at the current price of $1,110 per ounce is less expensive than it was sold for less than $300 per ounce years back,” Faber said batting for the bullish run that the yellow metal is in during 2010.

Faber explained that gold price should be treated in the same way that a company’s stock is being treated by investors. “A company’s stock could be less expensive at $100 than when it was selling for $10, because earnings growth has outpaced the appreciation of the shares and therefore its P/E has declined, gold could be cheaper at the current price than when it was at less than $300 because of the explosion of foreign exchange reserves in the world, zero interest rates, the huge debt overhang, and the expectation of further money printing,” he said.

According to Faber, global reserves of gold have grown from about $1 trillion in 1995 to over $7 trillion.

”Therefore, the share of gold in the world’s official reserves has declined from 32.7 per cent in 1989 to a current record low of 10.3 per cent,” he pointed out.

Faber said that he is still puzzled by the deflationists, who cannot understand that the explosion in foreign exchange reserves over the last 15 years is a symptom of a massive monetary inflation. “Ergo, I could argue that gold is now actually less expensive than when it sold for around $300 per ounce,” he said.

Faber said that central banks in emerging economies keep only a tiny fraction of their reserves in gold. “Eventually, I would expect them to follow the example of the Reserve Bank of India (RBI), which recently bought 200 tonnes from the IMF for $6.7 billion,” Faber pointed out.

”Now, just consider what the impact would be if China were to increase its gold holdings from presently less than 2 per cent of its $2.2 trillion reserves to 6 per cent or 10 per cent. Each 1 per cent increase in gold weighting would mean gold purchases of more than $20 billion, or nearly 600 tonnes,” he said.

Faber said that gold’s value may go from $1,100 per fine ounce to $1,500 or $5,000.

But he added that he “would not invest more than a sliver” of his wealth “into something without intrinsic value, something whose positive value is based on nothing more than a set of self-confirming beliefs”.

Faber said that he is not a perennial gold bug. “But, when governments spend far more than they collect in taxes (large fiscal deficits), and when central bankers engage in reckless monetary policies and, instead of treating the causes of the problems (excessive debt growth), treat the symptoms (deflationary forces), gold as a currency does make a lot of sense,” he added.

Wednesday, January 06, 2010

Is the U. S. government the next bubble?

Back in 2000, Bill [Bonner] urged the Daily Reckoning faithful to “sell stocks; buy gold.” As fate would have it, stocks produced a LOSS during the ensuing ten years, while the gold price quadrupled. Good call!

Bill has gazed into his crystal ball once again, and he is offering a brand new Trade of the Decade: Sell US Treasury bonds; buy Japanese stocks. Your California editor heartily endorses Part I of this trade (while professing agnosticism on Part II).

Treasuries are indeed a “sell.”

In fact, Treasuries have been a “sell” for several months already. In the year just passed, long-dated Treasury securities produced their biggest annual loss since 1978. During the month of December, alone, yields skyrocketed along the entire yield curve, as price tumbled.

Just maybe, bond investors are growing a bit nervous about America’s mushrooming deficits. “President Barack Obama is borrowing unprecedented amounts for spending programs,” Bloomberg News reports. “US marketable debt increased to a record $7.17 trillion in November from $5.80 trillion at the end of last year.”

This disturbing trend leads economists Brian Wesbury and Robert Stein to conclude that “Government” will be the first major bubble of the new decade.

“Some claim a bubble has already formed in the global stock market, with prices up 60%-plus since the bottom in early March,” the duo observes. “Others claim commodities will be the next bubble… Still others say US Treasury securities are already in a huge bubble, with interest rates way too low. But maybe the worst bubble has nothing to do with the private sector at all. The public sector, particularly the federal government, has benefited enormously from absurdly low interest rates.

“Think about it,” Wesbury and Stein continue, “the federal deficit was $1.4 trillion in the fiscal year that ended in September, or 10% of GDP, the largest peacetime deficit on record. But net interest – the cost of servicing the national debt – was only 1.3% of GDP, the lowest in about 40 years. For comparison, net interest was absorbing about 3% of GDP in the 1980s and 1990s.”

Unfortunately, the skeptical economists observe, the government is relying on low-cost, short-term financing, which creates the delusion that “a massive increase in government spending [is] an easy burden to carry… Just like homeowners who relied too much on short-term adjustable rate mortgages, the federal government’s average debt maturity remains less than 4.5 years, which means net interest costs will soar over the next several years as the government rolls over its debt at higher interest rates.”

Why I've been reading Bill Bonner

Back in 2000, Bill Bonner, author of financial newsletter The Daily Reckoning, announced his trade of the decade. It was a simple one: sell dollars, buy gold.

It turned out to be a good plan. In 2000, you could buy an ounce of gold for $280 (the average price over the year). Now, it will cost you $1,125. At the time, Bonner saw what most others did not. He saw the US not as an economy carefully and cleverly managed by then Federal Reserve chairman Alan Greenspan and his passion for low interest rates, but as a massive credit bubble waiting to burst.

He also saw the massive and growing national debt, the trade and budget deficits, and fast growth in the money supply as factors that would naturally debase the dollar over the long term. He also saw the credit bubble as global rather than peculiar to America.

So it made sense to him to hold the only non-paper currency there is – gold. Bonner had a good decade, making returns of 400 per cent plus. The question now is: Will he have another one?

I suspect he might. Why? Because he’s going for the same trade of the decade for the next 10 years as he has for the past 10.

This makes complete sense: nothing has changed since he made his first gold call except for the scale of the currency debasing going on around the world. Think ultra low interest rates almost everywhere, the money printing exercise that is quantitative easing, and the whopping rises in national debt levels – the arguments are all pretty well-rehearsed these days.

Another reason to suspect this next decade could go Bonner’s way is that he and the other gold bugs are no longer alone in their hoarding of gold – central banks have become net buyers for the first time in many years and fund managers are beginning to wake up to the idea that gold can hedge them against a great many nasty things.

Still, however compelling the case, one thing to bear in mind for this gold bull market is that it is likely to be very volatile. Why? Exchange traded funds (ETFs). These funds – which are much easier to buy and sell than physical gold – didn’t exist last time round, but this time they are huge: ETF Securities says it has $9.5bn worth of physical gold holdings backing up its products. That means that as investors fall in and out of love with gold, and trade ETFs that have to be physically backed, the gold price could gyrate violently.

Note that gold has already fallen back from its high of just over $1,200 back to $1,130.

Note too that, in the short term, it may well continue to fall. I mentioned in late October that I expected to see a short-term snap back in the dollar – that has happened, and as the dollar has strengthened, so the gold price has fallen. However, whatever happens in the short term, in a period of financial uncertainty on today’s scale, I just don’t think you can be without a proper precious metal.

I favour gold simply because it has no purpose other than to be an alternative currency, but there is also a case to be made for silver should you want to diversify (although don’t forget that physical silver, unlike gold, is subject to VAT). As they both fall back, it is probably worth stocking up on them at what I think will be temporarily lower prices. That’s particularly the case given the announcements in last week’s pre-Budget report. Gold pays no dividends so you can’t be forced to pay income tax at 40 per cent or 50 per cent on it. Instead, any profits will be pure capital gains – taxed at what now seems the very low rate of 18 per cent.

This is the second point we were going to make. For the most part, there is no recovery happening. And the part of the recovery that is actually happening is a fraud.

You can’t cure a problem of too much debt by borrowing more…even if the borrower is the federal government. When the private sector was over-borrowing, it was absorbing resources it couldn’t really afford. Plus, it was sending the wrong signal to producers, leading them to believe they had real customers on the other end of the line. What they had were people pretending to have more purchasing power than they really had. And when the credit got turned off, these customers disappeared, leaving the manufacturing sector with too much capacity and the retail sector with too much floor space to sell it.

Now, the government is doing the same thing – taking up resources it cannot really afford…and redirecting them to uses that it really can’t sustain. What’s more, this use creates a phony GDP… production for which there may or may not be any real demand. It looks like real GDP to the economists…after all, people are making money and spending it. But is anyone really any better off by building a piece of expensive machinery that gets shipped to Afghanistan at enormous cost and is later abandoned there? Or how about hiring another 1,000 bureaucrats to process health care paperwork? Is the world a better place as a result?

In the private economy, people are always making mistakes. People buy things they really don’t need with money they really don’t have. Then, they pay the price.

In the public economy, people are always making mistakes too. But since the person who makes the mistake is not the one who pays the price there is little incentive to ever recognize the mistake or to stop it. Just the opposite. In the public economy, people are rewarded for failure. The worse a situation becomes…the more money gets thrown towards it. Just look at Detroit!

Government mistakes become eternal…programs that can’t be stopped because too many jobs would be lost…useless community centers that can’t be closed…wars that go on forever…the bureau of this…the department of that…

More and more parasites…fewer and fewer honest workers. But parasites do not build honest prosperity. They just waste resources.

Thursday, December 31, 2009

We're headed for high inflation

Even as the Dow sits above 10,000, the public remains justifiably anxious about the state of the economy. The Federal Reserve has worked overtime to convince the public that it has saved the economy from a meltdown, but with unemployment at a 26-year high and the dollar tanking, it's a hard sell. What most people easily understand is that the Fed has produced a monetary time bomb. Since August 2008 the monetary base (bills in circulation plus bank credits at Federal Reserve banks) has increased by 137%. If not defused, this bomb will eventually explode into inflation. We are told by Fed Chairman Ben S. Bernanke and other members of the Fed's bomb squad not to worry. They assert that they know how and when to disarm the bomb.

Such assertions are a stretch. After all, it was the Fed's ultraloose monetary policy and disregard for the value of the greenback that fueled the asset bubbles that burst and set off the panic and subsequent destruction of jobs and wealth.

The time bomb hasn't exploded yet because, for now, the expansion in the monetary base has not given rise to a comparable expansion in a broader measure of the money supply called M2. That's the monetary base, plus demand deposits (commercial and individual) at banks, traveler's checks, savings accounts, time deposits and money market mutual funds.

The key here is something called the money multiplier, which is M2 divided by the monetary base. The multiplier measures, in a sense, the inflationary bang from every buck the Fed creates. In August 2008 the multiplier was 9.1. By December 2008 it had collapsed to 4.9 and since then has declined along an irregular path to 4.2. When the demand for the more narrowly defined kind of money goes down, as it eventually will, the money multiplier will move back into a normal range of 8 to 9. That is, the dollars manufactured by the Fed will give rise to more money (broadly defined) burning holes in people's pockets. An excess of money in spenders' hands is a recipe for inflation. This is when the Fed will need to shrink its balance sheet, but it will not be willing to do so because unemployment will probably still be elevated. In this scenario inflation expectations will become unhinged and inflation will accelerate.[Emphasis added]

Bonds are risky when inflation is set to explode

In February 2009, Steve Hanke was recommending gold and TIPS (see my previous post). Here are his recommendations at the end of November 2009:

With the Fed intent on keeping interest rates artificially low for an extended period of time, some of my previous recommendations should still work well. In September I recommended tapping into gold and commodities via the SPDR Gold Shares (GLD), iShares S&P GSCI Commodity-Indexed Trust (GSG) and PowerShares DB Commodity Index Tracking Fund (DBC). Since then, these funds have appreciated by 13% to 15%, while the S&P 500 has notched a 9.2% gain. Retain these positions to protect your portfolio from the Fed.

With the inflationary wolf at the door, what's an income investor to do? Go for dividends.

Leggett & Platt ( LEG - news - people ) (LEG, 20), a manufacturer with a product line that started out as bedsprings and veered off into things like parts for farm machinery and retail shelving, generates plenty of cash, even when sales slump. The dividend, which eats up 50% to 60% of earnings, was raised last year and now comes to an annual 5% of the share price. Management has also spent cash on stock buybacks, shrinking the number of shares outstanding by 15% over the past three years.

Philip Morris International (PM, 50) is the second-largest tobacco company in the world. PM claims almost 16% of the non-U.S. cigarette market, a big plus for dollar bears. The market is currently pricing in a revenue growth rate that is lower than what the company has enjoyed over the past five years. The yield is 4.56%.

With its acquisition this year of Alltel ( AT - news - people ), Verizon Communications ( VZ - news - people ) (VZ, 30) has a customer base equal to 30% of the U.S. population. Annual revenue growth over the past ten years has averaged 11.9%. But Verizon is not receiving much credit for its rapidly growing wireless business (it owns 55% of Verizon Wireless). This segment is growing at an annual rate of 17% and is now larger than the wire-line side of the business. The dividend yield is 6.4%.

Kellogg ( K - news - people ) (K, 53) has a yield of only 2.8%, but its dividend is well covered (it uses up only 44% of earnings) and has enjoyed seven increases over the past ten years. The cold cereal company gets 34% of its revenue from outside North America. That portion will go up, so here is another hedge against a weak dollar, as earnings abroad get translated into EPS gains here. Wall Street is expecting mediocre growth--too pessimistic. Take a bite.

Stocks for the long run?

Following conventional wisdom has led a generation of investors down the road to ruin. That wisdom had us believing that over the long run stocks produce the highest returns, that a diversified stock portfolio protects you against loss and that the risk of owning stocks is small if you hold them for a long time.

We now know that conventional wisdom is wrong. While the number of decades in which equities in the U.S. underperform other asset classes may be small, the size of the shortfalls, when they occur, can be huge. For the first decade of this century it is highly likely that the return on U.S. stocks will be negative. For those who are near retirement, the shortfall is devastating; they might not get a shot at making up the loss in their lifetimes.

Diversification is useful, in varying degrees, most of the time. But there are occasions when all stocks dive simultaneously and putting your eggs in different baskets doesn't save you.

Like a broken record, the CNBC sages are still telling young people to buy stocks because if you have a long time horizon, you don't have to worry about these market fluctuations. While this sounds like a reasonable theory, it's wrong even if you're young. The so-called experts fail to account for the potential severity of the underperformance when stocks fall.

By sheer coincidence, I came across Hanke's 11-month old article today (January 31, 2009), when the Chart of the Day shows the returns from the Dow decade by decade:

Hanke's advice has been to buy gold and Treasury Inflation Protected Securities ("TIPS"):

If you followed my columns in 2008, you would have bought gold and inflation-indexed Treasurys. I'm not veering from this advice. Forget conventional wisdom and ignore play-by-play economic commentators. Buy federally guaranteed, inflation-protected TIPS and sleep soundly.

Today's Chart of the Day shows that the losses of the '30s were followed by gains in the '40s, '50s (huge gains), '60s, and even the '70s (slight gains) before the huge gains of the '80s and '90s. Will history repeat itself? Will the losses of the '00s be followed by gains in the '10s and '20s?

Other Links Of Note

Quotes

"It is no crime to be ignorant of economics, which is, after all, a specialized discipline and one that most people consider to be a 'dismal science.' But it is totally irresponsible to have a loud and vociferous opinion on economic subjects while remaining in this state of ignorance." --Murray Rothbard

"As human beings, our greatness lies not so much in being able to remake the world as in being able to remake ourselves." --Gandhi

"[Jim Rogers] just looks at the world, wonders if we have all gone mad, and enjoys life while investing." --Alvaro Vargas Llosa.

"The curious task of economics is to demonstrate to men how little they really know about what they imagine they can design." --F.A. Hayek in The Fatal Conceit

"So many things the government does are attempts to circumvent the bad things caused by something else they already do." --Russ Roberts